Amidst the intense focus on central bank policy decisions and the latest Trump activity you’d be forgiven for barely having registered that the oil price fell more than 9% last week. Wind back the clock just over a year and it would have been front page news.
This present apathy is evident in asset pricing. Entering 2016, the correlation between the oil price and financial assets had risen to high levels, to the extent that you could generally guess the daily direction of equities and bonds from what the oil price had done.
Last week represented a break with this recent pattern, with global equities broadly flat and US Treasuries selling off. Figure 2 below shows market moves for the last 5 occasions in which the oil price has fallen by 9% or more in a calendar week.
The bond market relationship has also shifted. Having rallied on each previous occasion that the oil price fell materially, Treasuries sold off last week.
Granted, looking at weekly moves out of context can be misleading: the recent fall came after a period of rising prices whereas the earlier examples were in a context of longer term decline (January 2016 saw two weekly declines in excess of 9%). However it demonstrates the broader trend illustrated by shifting correlations in figure 1, and also highlights how single issues can periodically grab markets’ attention before being dropped in favour of the latest issue du jour.
In January 2016 the narrative was that the oil price was indicative of declining Chinese growth and the prospect of a global recession (a story that we were highly sceptical of at the time). Commodities were all the market could focus on. Today it’s all about Trump-led reflation (or in the UK, Brexit).
More importantly the example of oil is a good reason when we should always ignore comments like: “the oil price is all that matters for markets right now.” This type of single issue focus always ignores the true complexity of the economic system and financial markets. As evidence of improving market economic data has emerged, the market is much more sanguine in the face of a sharp fall in the oil price; the number of stories on Bloomberg even referring to the oil price is at recent lows.
There’s a strong myopic tendency to focus inordinately on the hot topic of the day, flitting from “key issue” to “key issue” as the next one arises. Sure, these might influence assets on a short time horizon (quite probably in unpredictable ways), but long-term price moves will be dictated by observable changes in fundamentals and the market’s valuation of those fundamentals. Participants might benefit from focussing more on these key issues.